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BANK OF AMERICA ISN'T CITIGROUP. it shouldn't need to raise more equity and dilute shareholders. It will post a profit in the first quarter and all of 2009, absent a market meltdown worse than what we're now seeing. And, when the economy recovers, it will be an earnings powerhouse.

That's the message chief executive officer Ken Lewis is delivering to anyone willing to listen -- including Barron's, which he visited last week.

Investors, however, are skeptical.

CEO Lewis of BofA hasn't been smiling much since buying Merrill Lynch -- acquiring losses that were larger than foreseen, along with a storied brokerage operation.
AFP Photos/Saul Loeb

CITI'S SWOON HAS BEEN exacerbated lately by the announcement that it will boost its capital base by converting much of its preferred stock into common, diluting the interests of existing common shareholders. That's precisely what bears say will happen at
Bank of America.
bac 0.45751633986928103%Bank of America Corp.U.S.: NYSEUSD23.055
0.1050.45751633986928103%
/Date(1481301535008-0600)/
Volume (Delayed 15m)
:
36392245
P/E Ratio
19.078782826177573Market Cap
232342244198.49
Dividend Yield
1.3109023377758358% Rev. per Employee
432244More quote details and news »bacinYour ValueYour ChangeShort position
And the coming government "stress test" of banks' financial strength has fanned further doubts about the bank. The test's nature is known; its specifics aren't.

But BofA has a chance of averting Citi's fate.

The measure of capital adequacy favored by many big investors is tangible equity -- equity minus goodwill -- as a percentage of tangible assets. It gives them a feel for how much of a cushion a bank has left to absorb losses on loans or securities gone bad. BofA's tangible equity ratio is 2.68%, and its tangible equity as a percentage of risk-adjusted assets is 3.6%. Lewis theorizes that regulators would like to see banks' tangible equity at 3%, and says that BofA should get there by the end of the year. But 4% is the number often discussed by investors.

Citigroup's tangible equity, now at about 1.5%, is expected to jump close to 4% after it converts its preferred, as my colleague Andrew Bary recently noted ("Fixing the Banks," March 2). In contrast,
JPMorgan's
JPM -0.37006578947368424%JPMorgan Chase & Co.U.S.: NYSEUSD84.805
-0.315-0.37006578947368424%
/Date(1481301534709-0600)/
Volume (Delayed 15m)
:
3327390
P/E Ratio
14.556034482758621Market Cap
304581834359.245
Dividend Yield
2.27420787681374% Rev. per Employee
421457More quote details and news »JPMinYour ValueYour ChangeShort position
(JPM) tangible equity is 3.8%, and will improve now that the bank has slashed its dividend by 87%.

To boost tangible equity to 3%, Bank of America would have to raise its equity base by $8 billion, assuming that the total amount of its assets remains unchanged. The equity needed would be lower if the assets were reduced. BofA hopes to reach 3% through a combination of retained earnings, asset sales and shrinking its balance sheet.

"It's our earnings power that people are missing," Lewis says. "We can absorb a lot of [hits] and still be profitable." In fact, Bank of America, which now includes Countrywide Financial and Merrill Lynch, could generate more than $100 billion in revenue this year -- after mark-to-market write-downs. It could also post $45 billion to $50 billion of pre-tax, pre-provision income, out of which it could absorb losses on loans or boost its reserves against them.

Lewis contends that, despite problems at its credit-card unit, Merrill and elsewhere, Bank of America will be profitable this quarter and for all of 2009, unless things get a lot worse. He won't be specific, but Wall Street expects the bank to lose one cent a share in the first quarter and earn 57 cents this year, according to Thomson Reuters. In comparison, Citigroup is seen losing 30 cents a share this quarter and 70 cents this year.

Columbia could fetch $3 billion to $4 billion, even in this depressed market. Balboa, which the bank picked up when it bought Countrywide, could be worth at least $14 million, according to SNL Financial.

Lewis also notes that BofA's Tier 1 capital ratio of 10.6% is well above the 6% level regulators usually deem adequate. (This ratio is the bank's core equity capital as a percentage of its risk-weighted assets.) However, because this calculation includes preferred stock, many investors believe it overstates a bank's strength. Citigroup's Tier 1 ratio, after all, is 11.9%.

IF BANK OF AMERICA CAN AVOID CITI'S FATE and the economy and markets improve, stockholders could eventually benefit from something that the crisis has forced: a massive buildup of BofA's loss reserves. At the end of 2008, they stood at $23.5 billion, almost double the year-earlier level. If the need to keep boosting these reserves ended, the bank would boast impressive earnings power.

The Bottom Line

Anyone buying BofA shares is making a home run-or-strikeout bet, not an investment. But the bank's chance of passing regulatory muster may be better than the bears say.

In 2003, Merrill Lynch earned $4 billion, Countrywide made $2.37 billion and Bank of America had $10.76 billion of net income. (The BofA figure doubled three years later, just as the U.S. mortgage madness was peaking.) Add in some $8 billion of cost savings from inefficiencies that have been eliminated by the merger of the three businesses and the new Bank of America could crank out $25 billion, or roughly $4 a share, of after-tax earnings when the good times return.

That's an iffy vision, admittedly, but one that makes BofA a decent speculation at under $3.25 a share.